"There are many, many very dedicated people and providers working to provide really a lifeline to many Marylanders in desperate need of services," Sharfstein told the House Health and Government Operations Committee at a hearing in Annapolis. "We owe it to them as a department to do a very good job monitoring."

Sharfstein said he believes his department can ramp up oversight with existing staff, and he said the changes might not require any legislation. Ultimately, he said, he wants to work with lawmakers to merge drug treatment and mental health services, which now fall under parallel funding systems, though he said such a merger will not happen this year.

Sharfstein, who took the helm at the health department last week after leaving the No. 2 job at the federal Food and Drug Administration, said before the hearing that the regulatory changes were spurred by a Baltimore Sun investigation last year of Baltimore Behavioral Health Inc., a private mental health clinic on West Pratt Street.

Del. Peter A. Hammen, the Baltimore Democrat who chairs the Health and Government Operations Committee, called Thursday's hearing after that investigation, published in November, revealed unusually high Medicaid billings at BBH and detailed the organization's control by several family members earning six-figure salaries.

The nonprofit center, which specializes in treating people who are afflicted with both mental illness and drug addiction, received about $17 million in public funds in fiscal 2009 and about $11 million in 2010.

Former BBH patients and employees, as well as some outside doctors, told The Sun that the clinic has been diagnosing mental illness — and collecting public funds to treat it — in some patients whose main affliction is drug addiction. As the clinic's Medicaid billings rose in recent years, so did the salaries of top BBH executives, reaching a total of $1.4 million in 2009 for the six family members on the nonprofit company's board of directors.

The investigation also documented how, as early as 2004, BBH stood out from other providers for its use of a high-cost treatment called "intensive outpatient." State data show that in some years BBH accounted for 85 percent of such billings statewide.

Yet officials at the Mental Hygiene Administration, a unit of the state health department, have said they didn't notice its outlier status until spring 2007. Even then, they did not act to limit such payments until the fall of 2009, when rules were tightened for intensive outpatient.

In recent weeks, state health officials have forced the six family members to cede control of BBH's board, fined the nonprofit $90,000 for employing a doctor who had been convicted of Medicaid fraud, and required the nonprofit to draw up a detailed corrective plan. BBH executives have said the center does its best to provide quality care for a difficult population.

Herb Cromwell, executive director of the Community Behavioral Health Association of Maryland, told the committee that his network of providers — which does not include BBH — was "foursquare behind" efforts by state regulators to protect "every nickel" of state funds.

"We have a saying at CBH: If you're making money in community mental health, you must not be doing it right," Cromwell said, noting that funding is never sufficient for the continually rising demand for services.

But he added: "Can we do it in a way that does a better job of targeting bad guys, without further burdening the ethical providers that make up the vast majority of our provider network?"

Terry T. Brown, vice president of resource development at BBH, sat in the audience during the hearing and said afterward that it was unfair for Cromwell to refer to BBH as "bad guys."

"It's unfortunate we're on the hot seat in terms of being down here," Brown said, but he acknowledged that "systemic changes" are needed. Brown serves on the BBH board but is not part of the family that has long controlled the clinic.

During the hearing, Hammen, the committee chairman, asked Sharfstein and his top deputies how to prevent illicit drug use in patient housing. The Sun's investigation found that drug use was a recurring problem in some of the rowhouses where BBH places patients, without any on-site staff supervision, while they undergo outpatient treatment.

Sharfstein, a former Baltimore health commissioner, did not offer a remedy. But he said that "if housing is provided by a treatment provider, then they should be responsible for what's going on there."

Officials say housing regulation is an area that will be explored by Wendy Kronmiller, Sharfstein's chief of staff. Kronmiller will also look at the appropriate role in clinical care for physicians who have been disciplined by the state Board of Physicians.

Sharfstein told committee members that regulators will begin reviewing the makeup of a provider's board of directors as part of the regular licensing process.

The aim is to ensure compliance with an existing state law barring mental health providers from having any board members who are closely related to employees of the organization — a provision that regulators belatedly found BBH had violated.

Also, he said, the restriction would be extended to substance abuse providers.

And while the Internal Revenue Service is empowered to decide if a given nonprofit's salaries are "excessive," health regulators will begin screening providers' nonprofit tax filings known as Form 990s for red flags, Sharfstein said.

"Obviously, loans and salaries that seem out of proportion are potential warning flags for other poor practices within an organization," he said, adding that other government agencies could be notified of possible improprieties.

Sharfstein also touched on the tricky issue of diagnosis. Historically, the state's public mental health system has paid better than drug treatment. But under the rules, a provider can only bill the mental health system when a patient's main affliction is deemed to be psychiatric. Critics say this has created an incentive to "up code."

In addition to monitoring for unusual billing patterns, Sharfstein said, "when we see those patterns, we intend to aggressively look to see whether there may be a problem with diagnosis."

The state will tap the diagnostic expertise of the company that administers the Medicaid program in Maryland, he said, and in "extreme" cases could send out a review team to interview patients.

Sharfstein did not name any providers in his comments to the committee but referred indirectly to BBH and a second provider, Warwick Manor Behavioral Health Inc., located outside Cambridge.

Last Wednesday, state health investigators said they had uncovered evidence of "fraud or willful misrepresentation" by Warwick Manor. Investigators cited "numerous instances" in which it billed for a full day of care but provided only a half-day and charged for the work of physicians who weren't at the facility.

The inspector general of the state health department, Thomas V. Russell, notified Warwick Manor last week that the state had suspended all Medicaid payments to the clinic. Warwick Manor treats about 2,000 patients a year and billed the state's Medicaid program $1.5 million last year.

Separately, The Sun found that Warwick Manor has been paying chief executive L. Wesley Fuhrman up to $398,000 annually, far more than the salaries of the heads of similar organizations nationwide. The clinic also has made $309,000 in loans, largely without collateral, which a former top IRS official labeled "unusual" for a nonprofit and "highly risky."

Fuhrman also received $36,000 in 2009 as a board member at Baltimore Behavioral Health, where he was president from 1998 through 2001. Between 2000 and 2003, BBH paid his firm, Wesco Inc., $366,000 for "marketing services" tax records show. The two clinics often refer patients to each other, say former BBH staff and patients, and have employed some of the same doctors.

Warwick Manor executives have not responded to repeated requests for comment.